South Africa has significantly improved regulation on insider trading over the past five years, but successful criminal prosecutions remain elusive, analysts said last week. They were reacting to a survey undertaken for the Financial Services Board (FSB) by Genesis Analytics, which found that the impact of the overhauled insider regime was pronounced. The Insider Trading Act was promulgated in 1998 and came into effect the following year.
Rob Barrow, deputy CEO of the FSB, described insider trading as an “opportunistic” crime. It essentially involves trading on a company share to make a profit (or avoid a loss) by acting on information which, if made available to the market, would have a material impact on the share price. The information could be from a company insider, a closely associated party or a “tipee”.
The survey credits the new regime with “changing prevailing attitudes to insider trading, [resulting] in new policies among listed companies … [leading to a] sharp reduction in the perceived incidence of insider trading”.
It found a 93% awareness of insider trading regulations among market participants. Insider trading had become “markedly less acceptable” to about 80% of those surveyed — the same proportion who had improved education on the issue in their companies. Seventy-seven percent of traders and asset managers believed the regime had either been “successful” or “very successful”.
The most significant achievement of the insider trading directorate has been successful civil action — it has achieved settlements with 19 people totalling R47-million. “In the past, there was not even an attempt to do this,” Rob Barrow, chairperson of the directorate, told the Mail & Guardian at last week’s launch of the survey.
The settlements arose from 21 cases in which civil action was pursued, out of a total of 162 investigations. Eight of these are still in progress, with six having been referred to the National Directorate of Public Prosecutions.
The introduction of the directorate to take over investigations from the Securities Regulation Panel and empowering the FSB to take civil action are two of the key changes introduced by the Insider Trading Act. It also made trading while in possession of inside information a criminal offence, a significant improvement on the previous provision, which required that authorities show that the information “was a reason to trade”.
The legislation also introduced the concept of punitive damages. Victims of insider trading could now sue for three times the quantum of the damages suffered. Johann Scholtz, a partner of the law firm Webber Wentzel Bowens, described the directorate as “tough — sometimes a bit overzealous — but effective”.
Neil Lazarus, a senior counsel and director of Corpcapital, who advises on insider trading regulations, told the M&G that one of the differences between criminal and civil prosecution lies in the burden of proof and flexibility in the civil process.
You can reach a civil settlement “without having to admit guilt or liability”, Lazarus says. Criminal prosecution is also ineffective as insider trading might take a back seat to other crimes because of backlogs in the system. This might not improve “until criminal cases are also investigated by a specialist body”.
Scholtz said that civil suits have the same deterrent effect as criminal cases, as they involve both heavy financial penalties and reputational damage.
Lazarus concurs that the new regime has brought about “a greater consciousness and respect for the integrity” of the Act. He also points out that “the effort to clean up sometimes goes too far”. For example, in a closed period, usually the time leading up to the release of company’s financial results, directors are not allowed to trade their company shares. Lazarus points out that the blanket prohibition is unfair to those directors who are not in possession of inside information.
Scholtz said certain areas of the directorate required refinement — an example being regulations about the trading of company information, where there is still a lack of clarity about how such information can and cannot be used.
Regulation of insider trading is about to be tightened further with the expected promulgation of the Securities Services Act.
Currently before Parliament, it will lead to the introduction of an enforcement committee. Barrow said the committee would be akin to a tribunal, headed by a senior counsel or judge. It would be independent of the FSB and would deal with all issues of non-compliance, including insider trading. Basically designed to impose administrative sanctions, it would have the power to levy fines. Scholtz welcomed the move, noting that it would lead to the investigation of insider trading by “people with in-depth knowledge and a sophisticated approach”.
Barrow said one measure of the progress made in regulating insider trading was how foreign perceptions of the South African market had changed. In the mid-1990s a con- sultant told him the California Public Employees Retirement System (Calpers), one of the world’s largest funds, had withheld investment worth R5-billion from South Africa because of the perception that irregular trading was widespread. Now the country is back in Calpers’s good books.